Panic over the rising baht

Rising Baht: The Thai baht has strengthened significantly versus the US dollar over the last year, as have most other Asian currencies. As of the second week of October, the baht is up 10.8 percent against the dollar, making it the strongest performing currency in Southeast Asia. Factors driving currency appreciations in the region include interest rate differentials with the US, current account surpluses, and positive investment sentiment on local stocks and bonds.

Market watchers anticipate the US Fed will flood the market with additional liquidity in the coming months, which will put further upward pressure on regional currencies.The graph below shows the performance of regional currencies versus the dollar over the last year. All regional currencies have appreciated with the exception of the Vietnamese Dong, which has depreciated almost 10.0 percent.

Panicked Exporters: As expected, Thai manufacturers, rice producers, and other business interests are complaining loudly that the strong baht is hurting profits and undermining export competitiveness. At the commerce ministry, Bhum Jai Thai minister Portiva Nakasai recently told the finance ministryand BoT that something must be done to slow the baht’s appreciation because exporters are losing 6.0 billion baht a month in revenue.

Thailand exports a wide variety of products from high-value electronics to low-value toys and garments, so the impact of the baht’s appreciation varies from one industry to the next. Industries which compete on other factors than price and have a high-import content are less vulnerable to the effects of currency appreciation. For these companies, a strong baht reduces import costs on components, machinery, and fuel. Conversely, industries most vulnerable to the effects of appreciation are those which have a low-import content and compete on price. As reported by The Nation,

Despite the expansion of exports for 10 consecutive months, the appreciation of the baht has slowed down the export of some goods over the past month, a report from the Commerce Ministry said. “Rice, fruit and vegetables, construction goods, printing and jewellery started to shrink in August due to the baht’s appreciation.

Vichai Assarasakorn, president of the Thai Gems and Jewellery Exporters, said a stronger baht would be a key factor to the shrinking down of exports for the rest of the year. Thai exporters are becoming less competitive compared to other export rivals, and if the government does not come up with concrete measures to solve the problems, local shipments would be hit dramatically, he said.

The Export-Import Bank of Thailand reported that the baht’s 4.3 percent appreciation in the past month had started to destroy the competitiveness of Thai exports with its rivals, including Brazil, China, South Korea, India, Ecuador, Vietnam, and countries in the euro zone. The locally produced goods that will be hardest hit include rice, sugar, cooked chicken, frozen and processed shrimp, canned tuna, printing products, plastic, footwear and textiles.

Government Reactions: In response to the baht’s appreciation, the Bank of Thailand (BoT) has introduced a series of measures to encourage capital outflows, ranging from adjusting limits on overseas investment and lending to raising balance limits on foreign currency holdings. On top of this, the BoT announced two additional relaxation measures on October 5. A complete run-down of the BoT’s counter-measures is available here in this statement. At the same time, other countries in the region such as Indonesia and South Korea have also implemented measures to stem appreciation of their currencies. In Indonesia, the central bank has imposed a one-month holding period on government bonds, while in South Korea the government tightened limits on local banks’ currency forward holdings to 250 percent. Further afield in Brazil, where the real has appreciated 35 percent to the dollar since 2008, the government has upped the tax on foreigners’ purchases of fixed-income assets from 2.0 to 4.0 percent.

MoreCapital Controls: While in Washington DC on October 9th, finance minister Korn Chatikavanij said 2006 Devakula-style capital controls, which caused the biggest one-day drop in the stock market before they were partially removed the following day, are not on the table as a remedy to dampen baht appreciation. As reported by The Nation,

“Finance Minister Korn Chatikavanij yesterday ruled out the possibility that Thailand would reimpose a 30-per-cent capital control, dashing exporters’ hope for strong measures to slow capital inflows and appreciation of the baht. In an interview with the CNBC television channel while in Washington, DC, Korn acknowledged that it would be difficult to reinstall the capital control, imposed in 2006 and abolished in 2008 amid criticisms from foreign investors, as a universal control was inappropriate…Korn said speculation should not be a problem, as only a tiny amount of inflows were for that purpose. He also urged European countries – experiencing an economic crisis likened to the one Asia witnessed in 1997 – to impose balanced measures, as budget tightening could lead to financial damage given the continent’s large size.“

“Mr Korn said there was little to stop the baht because the dollar has been weakening against all currencies in the region, while Thailand’s trade surplus is pushing the baht up further. The local currency is up more than 11% this year, second in Asia only to the yen which has risen 12% against the dollar…‘It is not possible to cast a magic spell to [reduce the value of] the baht and it is a waste to put effort into that because currency trading in the world now exceeds US$4 trillion a day,’said Mr Korn. ‘However, the best thing the Bank of Thailand is trying to do now is to make the baht more steady, the same as other central banks all over the world.’

He also noted during the trip that the strengthening baht is a “happy problem” and that nothing can change the economic dynamics driving the baht’s appreciation, Bloomberg reports,

Korn at the weekend said the appreciation of the baht was a “happy problem,” that reflects economic strength even as it means goods made in Thailand become more expensive for overseas buyers. “I don’t think a country like ours can forcibly change the fundamental direction of our currency,”Korn said in an Oct. 9 interview in Washington.

Nevertheless, the Cabinet this week reimposed a 15 percent withholding tax on interest and capital gains earned by foreign investors from government and state-enterprise bonds to ostensibly stem the rise of the baht (Korn told FT “This is not capital controls”) . NNT reports on the new measures and Korn’s adjusted stance,

The cabinet has given a nod to 3 measures proposed by the Ministry of Finance aimed at curbing the capital inflow and easing the damage caused by the rising Thai baht. The measures are to take effect on October 13./>/>According to Finance Minister Korn Chatikavanij, the measures approved by the cabinet will help rein in the Thai baht, while keeping the fund already invested in government bonds, given the measure are only applicable to new funds. />/>The measures include revoking the 15% withholding tax on interest income earned by foreign investors from government and state enterprise bonds;expediting the nearly 49-billion baht state enterprises’ investment planned for this year, and reducing the impact of the baht on SME exporters by assisting them withforward contract to minimize foreign exchange risks, and providing them with soft loans through Islamic, Krung Thai, and SME banks,the Minister said.

Wasted Effort?According to research by Barclays Capital, the additional tax on interest and capital gains will have minimal impact on the baht’s rise. WSJ reports,

Barclays Capital estimated that any impact on the bond market would be minimal and noted that foreign investors need only an additional 0.5 to 0.75 percentage-point rise in the baht to compensate for the tax burden. It has a 12-month forecast for the dollar/baht exchange rate of 29.25 baht, implying an anticipated appreciation of around 2.5%.

We’ll have to look at the figures in the next weeks to see what impact, if any, the new measures will have on the baht’s rise. It is highly likely that the appreciation is negatively affecting some exporters, but there are other factors such as the Vietnamese Dong depreciation that could be playing an important role in undermining export competitiveness. In all probability, the new changes are not strong enough to offset appreciation pressures from the current account surplus and foreign flows into the the local bourse. The government will have to do more to stem the appreciation, but the danger is that the more it does, the greater the risk of scaring off investors.

In any case, the rising baht and the panic of exporters underscores Thailand’s structural economic weaknesses — it relies too heavily on exports for growth and it produces too many products with low-value added. The export-led growth model supported by a cheap currency made sense early on in Thailand’s industrial development, but it seems to have become somewhat of a curse. Those steering Thailand’s economic ship prospered under this model, but it made them complacent and proper investments in education, training, and technology were neglected. As a result, when the baht rises in value, many Thai companies panic because their only competitive edge is labor costs and price.

As a parting thought, it is interesting to look at this debate politically. If the baht’s appreciation is really hurting low-end exports such as agriculture products and textiles, the sectors most opposition voters work in, then will the Democrats have any success selling the rosy GDP and export figures during next year’s election campaign? It forebodes a repeat of the 2007 election where the Democrat Party lost because they were unable to match Palang Prachachon’s success with rural Northeast voters and the urban poor in Bangkok. Rather than fighting an almost un-winnable war with the currency, the government may want to consider redistributing the benefits of the appreciation (cheaper imports) to help out the economic losers. Its recent moves include measures to assist SMEs and others hurt by the appreciation, which is a necessary starting point. It should also face the structural challenges by funneling the gains from current growth to infrastructure upgrades, education reform and investments, and technological upgrading.